China's Tech Crackdown Spooks Foreign Investors

The suspension of Chinese companies' IPOs (Initial Public Offerings) by the US SEC (Securities and Exchange Commission) has prompted China's securities regulator to summon a discussion with its American counterpart in order to find a suitable resolution. The suspension, which was caused by the increased disclosure requirements, occurred amid nearly a US$1 trillion share sell-off last week. As for now, the US regulator has indicated it will suspend Chinese companies until further improvement on risk disclosures. In contrast, the Chinese watchdog has called for mutual respect and collaboration on the issue. SEC Chairman Gary Gensler directed staff to seek additional disclosures from Chinese companies before signing off on their registration statements to sell stock in response to the same issue. He also expressed specific concerns about the structures – known as VIEs (Variable Interest Entities), which Chinese companies use for US listings, that are known to provide investors with an economic interest in the company's operations, excluding traditional ownership or voting rights. This will then lead to his opinion on how many investors were unaware that they were actually purchasing shares in shell companies based in tax havens rather than the underlying business. In fact, the outset of the overseas listings crackdown began after Didi Global Inc. was forced to list in the US, despite reservations from Beijing about the ride-hailing giant's data security. Following Didi's debut, Chinese officials announced an investigation into the company and banned its apps from Chinese mobile stores, causing a sell-off in the tech giant's shares as well as unprecedented losses for American investors. The two factors then fueled calls for greater oversight of Chinese IPOs.

The so-called “Didi effect” subsequently raised concerns among international investors about a number of leading tech companies and corporations that raise capital overseas. According to the Wall Street Journal, four leading companies - Alibaba (BABA), Kuaishou Technology, Meituan, and Tencent Holdings (TCEHY) - lost roughly 20% of their market capitalization in July. The chinese government regulation that prohibits companies who teach school curriculum subjects from making profits, raising capital by listing on stock exchanges worldwide, as well as prohibiting them from accepting foreign investment, was thought to have the potential to severely harm the academic sector for the three largest US listed groups. When a leaked memo suggested Beijing was planning to clamp down on the sector, New Oriental Education’s New York shares have fallen 60% since Friday (7/23), then dropped 14% in early trading on Monday (7/26). New York-listed TAL Education’s market value has dropped from US$59 billion in February to less than US$4 billion, while Gaotu Techedu’s market capitalization has dropped from a US$38 billion in January to $780 million after another 13% fall on Monday. Apart from that, Goldman Sachs experts predicted that China’s tutoring market will shrink by 76%, to US$24 billion.

The Chinese government is taking steps to encourage the orderly growth of specific businesses with the intention to strike a balance between development and security while also enhancing the long-term viability of market entities, according to a statement issued by the CSRC on Sunday (8/1). Following a top-level conference convened by President Xi Jinping on Friday (7/30), Beijing announced tighter regulations for Chinese enterprises selling stock overseas. According to a statement made on Saturday (7/31) by China's central bank, the country's fintech sector needs to be more "rectified", putting further pressure on tech companies. The People's Bank of China has urged fintech companies to strengthen competition and consumer rights, while also signaling tighter regulation of unlawful cryptocurrency activity and pushing forward with its own ambitions to build a digital yuan. The crackdown on China's colossal IT industry comes as the country struggles to recover from the coronavirus outbreak. In July, a key indicator of China's manufacturing industry health showed a slower than expected downturn. Last month, China's official Purchasing Managers' Index (PMI) slipped to 50.4 from 50.9 in June, reflecting rising inflationary pressures, slowing export growth, and the impact of severe flooding in some areas of the nation.

Sources:

Bloomberg

Financial Times

Forbes

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